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Not Be Denied

The news out of Europe implied
That Draghi could quickly backslide
On ending QE
Though most still foresee
The hawks there will not be denied

Data surprises overnight are the talk this morning with Eurozone IP falling the most in more than a year, down -1.0%, while inflation readings from various Eurozone countries continue to point to a distinct lack of impetus there. In addition to the underwhelming data performance, Signor Draghi was on the tape reiterating that it is still too soon to declare victory in their long-running battle to reflate the Eurozone economy. He continued to counsel patience in the pace of removal of accommodation, but one of his key lieutenants, Peter Praet, did discuss how guidance would be changing over time to give a clearer view of future policy actions. Net however, Draghi’s dovishness added to the soft data and so it cannot be a surprise that after the euro rallied during yesterday’s session, it has given back a portion of those gains.

Quickly touching on yesterday’s rally, the proximate cause was the US CPI data, which came in right on expectations thus indicating that inflation pressures continue to increase gradually, but that they are not yet showing signs of accelerating. This resulted in a bit less enthusiasm by market participants over the idea of a fourth Fed rate hike this year, and the result was some dollar weakness. Of course, yesterday also saw the firing of Secretary of State, Rex Tillerson, and the appointment of Mike Pompeo, erstwhile head of the CIA as his replacement. There are those who claim the ongoing turmoil within the Trump Administration is yet another factor in the dollar’s persistent weakness but I am less confident that is a viable explanation. My observation is that markets tend to react to policies, not politics, and despite all the sturm und drang, its still policies driving things. Of more interest to me was the very solid 30-year Treasury auction and modest bull-flattening of the yield curve. So despite some doomsday discussion about massive increases in Treasury supplies and reduced demand, something I touched on yesterday, it’s not happening yet.

The other data surprise came from China overnight, where IP jumped a full percent, printing at 7.2% and much higher than the expected 6.1% forecast. Fixed Asset Investment was also quite robust at 7.9%, almost a full percent higher than expected there. Finally, Retail Sales remain strong, printing at 9.7%, up slightly from last month. The point is that despite a universal belief that the Chinese economy is set to slow further this year, it remains quite robust. The market impact of this data was strength in the commodity sector, which has fed into higher equity markets in Europe and higher US equity futures as I type.

Looking across the FX spectrum, the dollar is arguably a bit softer overall, despite the euro’s modest decline. The biggest gainer has been AUD, (+0.6%) which seems to have benefitted from the strong Chinese data and commodity prices as well as an uptick in its own consumer confidence data. But away from the Aussie, movement in the G10 space has been rather limited. Once again, I believe that market participants are unwilling to position for significant policy changes, as uncertainty remains high, especially with the threat of a trade war hanging over us all. Meanwhile, in the EMG bloc, there has certainly been more currency strength than weakness, but the magnitude is not sufficient to make a strong case of a thematic driver. Rather, it feels like the dollar is feeling a little stress based on mildly softer interest rates from yesterday’s trading rather than anything else.

This morning brings a bit more data, starting with PPI (exp 0.2% both headline and core) then Retail Sales (0.4%, 0.4% ex autos) and finally Business Inventories (0.5%). Clearly it is the Retail Sales number with the best opportunity to move markets, and a big miss in either direction will likely have an impact on the dollar, as well as equity markets. But any impact will remain short term as the market slowly turns it attention to next week’s FOMC meeting. So all told, I anticipate a pretty lackluster session barring any further surprises on the trade front.